Price Increases: Big and infrequent, or small and annual?

Amazon just increased the price of Amazon Prime by 20%. Wow! That’s a big jump all at once. The good news is this was the first increase in 4 years. In 2014, they increased the price by 25%. These big price increases must impact their subscriptions.

Instead of trying to determine if this latest price increase was good or bad, let’s consider: Should they do 20% all at once or should they have done 5% per year? Unfortunately, there isn’t a clear answer, but here are the arguments on both sides.

Smaller, yet more frequent, price increases seem good if they can condition their subscribers to expect these annual increases. After working many years in the technology industry, where annual price decreases were expected, I was pleasantly surprised to be exposed to the life sciences industry where people just expected a 2%-3% increase every year. That was a lovely feeling, raising prices every year without much pushback. The question though is: Do you expect an annual price increase from Amazon? They could probably condition you to expect it.

Larger, infrequent price increases have two things going for them. First, every time any recurring revenue business increases prices, they are asking their subscribers to rethink their decision. If the price this month is the same as last month, customers already made that decision … It’s easy to just pay the bill. However, if the price went up, customers tend to reevaluate whether they really need that product or not. Even if the price didn’t change, doing something that causes paying customers to rethink their decision is probably not brilliant.

Second, is prospect theory. (OK, skip this paragraph if you’re not technical.). Turns out Daniel Kahneman and Amos Tversky introduced us to a theory that showed “losses loom larger than gains.” But the relevant part of that theory here is that the pain felt by losses has diminishing marginal returns. This means that the pain of losing $5 in two different circumstances is bigger than the pain of losing $10 once. In other words, the cumulative pain of four annual $5 price increases is greater than the one-time pain of a single $20 price increase.

So what’s the right answer? If you commit to annual price increases and condition your market to expect them, then it’s probably better. I watched this in wonder in the life science industry. However, if your market doesn’t expect price increases, save them up and deliver them all at once.

Of course, the best answer could come through testing, but that will take years. Does anybody have any data they can share?